After record funding rounds, it's time for a reality check in Startup Inc as investors demand results

Experts believe that although exciting new startups will continue to be created, it will be at a much tougher climb this year compared with 2015.Madhav Chanchani | ET Bureau | January 01, 2016, 08:54 IST

Experts believe that although exciting new startups will continue to be created, and investors will remain eager to invest in early-stage rounds, it will be at a much tougher climb compared with 2015 when some were looking to close deals over a Skype call.BENGALURU: After selling the promise of the Indian Internet over the past 24 months and raising record amount of capital, entrepreneurs and investors are getting ready for a reality check in 2016. Experts believe that although exciting new startups will continue to be created, and investors will remain eager to invest in early-stage rounds, it will be at a much tougher climb compared with 2015 when some were looking to close deals over a Skype call.

“Over the past two years some crazy amount of funding has come in, so we should expect a lot more sanity in 2016,” said TCM Sundaram, cofounder of IDG Ventures India, which has backed online retailers including Myntra, Firstcry and Lenskart. “It has already started, and will get even more stringent.”

Total funding for Indian venture capital-backed companies topped $12 billion (Rs 80,000 crore) across more than 1,220 deals in the past two years, with $7.3 billion invested in over 880 deals in 2015 alone, according to startup data aggregator Tracxn. While this momentum is expected to slow down, Series A funding — the first institutional capital a startup receives — is likely to continue to be robust.

Venture capital investors expect consumer-facing technology-based ventures in sectors such as financial services, healthcare, media and education to see early-stage action. Business-tobusiness ecommerce and supply chain are some other areas where investor interest is high. They also expect to see much better deal flow now, more realistic valuation expectations and more serious entrepreneurs rather than the get-rich-quick variety.

“At its peak, we used to see 2-3 startup pitches a week from one of the top consulting firms. Now it’s down to one a month from them,” said Tarun Davda, a managing director at Matrix Partners India. “Entrepreneurs also don’t come with set valuation expectation now, or with two term sheets in hand as it was earlier this year.” The size of Series A deals, which had ballooned to $10 million in early 2015, has now come back to $3-5 million.

Besides, both investors and entrepreneurs will be keenly watching battles for market domination, especially in the online retailing and cab hailing spaces where the companies with the biggest valuations have been created. While these battles have primarily been playing out based on discounting and capital-raising so far, differentiated offerings and technology are more likely to give players an edge in 2016. This comes as funding becomes relatively tougher, and questions are being raised on how these players will reach profitability.

MARKET COOLING

According to Paytm’s Vijay Shekhar Sharma, the overheated market started cooling down in the latter half of 2015 and experienced entrepreneurs should have been able build long runways. “Those who didn’t expect it have clearly not seen the investment cycle. However, I do not think there was any bubble,” said Sharma, whose firm raised over $800 million from China’s Alibaba and its affiliate Ant Financial.

Those who find it tough to raise cash will have to sell out.

“Consolidation is inevitable, but it will bring out few large winners,” Sharma said.

And discussions at the board level have already started about cost-cutting, which many see as a sign of soft landing for the ecosystem. But that could also change if there is an unexpected economic event.

Mid-sized startups, especially those valued at around $100 million, will also need to execute a sustainable business model and justify their valuations, which have already started correcting. For instance, a Bengaluru-based food tech startup which wasn’t willing to close its new round of funding below a pre-money valuation of $80 million till a few months ago is now negotiating the round at $45 million. More such cases are likely to follow in 2016, even as the buzz about down rounds has started to grow. All the same, venture capital firms such as SAIF Partners, Sequoia, Matrix Partners, Kalaari and Nexus Venture Partners, have raised fresh capital or are in the process of doing so. Some, who slowed down their pace of investments in 2015, also expect to be more aggressive as they see new opportunity.

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